Tax Penalty Abatements: Reasonable Cause Factors
My clients often get frustrated and take it personally when they receive a tax penalty from the IRS on top of their balance due. Tax penalties can substantially increase a balance that is owed to the IRS (coupled with the interest on top of those penalties) and turn a relatively small balance into a much larger one. Furthermore, the IRS takes a hard and fast approach when assessing tax penalties and will often assess the penalties without regard to the underlying circumstances.
Tax penalty abatements are somewhat difficult to get accepted, as the IRS does not simply like to discharge them without some justifiable cause. However, there are a number of “reasonable cause” factors that have been codified by the Internal Revenue Manual that taxpayers can use as a basis for challenging their tax penalty. As defined by the IRS, a tax penalty abatement is generally granted when the taxpayer exercises ordinary care and prudence, but nevertheless fails to comply with their obligations. Any reason or rational outside of these below factors will be much more difficult for the IRS to justify reasonable cause.
Ordinary Business Care and Prudence (IRM 184.108.40.206.2.2)
Ordinary business care and prudence can be demonstrated by showing that the taxpayer made every effort to comply with their tax obligations, but nevertheless for circumstances beyond their control were unable to do so. The IRS typically looks at four factors when deciding to abate a tax penalty because of reasonable cause:
Death, Serious Illness, or Unavoidable Absence (IRM 220.127.116.11.2.2.1)
Any death, serious illness, or otherwise serious medical condition is probably one of the best methods to justify a tax penalty abatement from the IRS. This applies both to individual taxpayers (or their family members) and corporate taxpayers when the person solely responsible for a company’s tax compliance obligations is absent. In situations where a corporation is involved, the IRS will also look at steps that the company took, in light of this condition, to exercise ordinary business care and prudence. Also, it is important to keep in mind that a human being will eventually be reviewing the facts and circumstances surrounding your tax penalty abatement. There is nothing wrong with asking for sympathy from the IRS in your tax penalty abatement request.
Ignorance of the Law (IRM 18.104.22.168.2.2.6)
Although this factor is more difficult to use as a reasonable cause argument, ignorance of the law is still a factor that the IRS may consider when determining the validity of a tax penalty abatement. As long as the taxpayer makes a reasonable effort to be compliant, then they can present an argument that they should not be penalized as a result of ignorance of the law. When making their determination, the IRS will look at a taxpayer’s educational background, whether or not they have been exposed to this type of tax before, whether they have been penalized before (the kiss of death for this argument), and if there were recent changes to the law, the reporting requirements, or the forms that the taxpayer would reasonably not be expected to be aware of.It is best that if you are going to attempt a tax penalty abatement that you principally rely on the other factors, rather than making this one your main argument. That said, ignorance of the law can be combined with other factors to strengthen your position.
Forgetfulness (IRM 22.214.171.124.2.2.7) and Mistakes (IRM 126.96.36.199.2.2.4)
It is my professional opinion that a tax penalty abatement should not be attempted on the basis of forgetfulness and you are better off not citing this in your reasoning for a penalty abatement than trying to make this argument to the IRS. The IRS even states in the IRM that reliance on another to comply with your obligations or oversight on your own behalf is generally not sufficient to establish reasonable cause. Mistakes are only slightly less dubious, although the IRS is also quick to note that making a mistake is not suggestive of ordinary care either. As such, I think you are better off forgetting that these factors exist and pursuing other avenues to try and argue your tax penalty abatement.
Unable to Obtain Records (IRM 188.8.131.52.2.2.3)
This is a double-edged sword, but we have had several successful tax penalty abatements accepted on the fact that the taxpayer could not obtain the necessary records to comply with their tax obligations. The failure to have the necessary records to file argument hinges essentially on how reasonable the failure to have the records in question was and whether or not the records in question were under the control of the taxpayer. However, the only thing worse than not filing in the eyes of the IRS is filing something that is not accurate. Although the use of this argument for a tax penalty abatement is fact dependent, it can be one of the more successful arguments for getting tax penalties abated.
Undue Hardship (IRM 184.108.40.206.3.3)
Undue hardships another factor that the IRS may use to abate a tax penalty. The IRS defines an undue hardship as something that is “more than an inconvenience to the taxpayer. In reality this means that the taxpayer must show and document some severe financial or personal catastrophe in order to get a tax penalty mitigated as a result of an undue hardship. There are very few circumstances that the IRS will consider severe enough to warrant non-payment of taxes and that is usually limited to severe detriment to personal health (cannot pay medical bills), loss of primary residence (cannot pay rent), or detriment to minor children or dependents (cannot pay their food, housing, or medical expenses). Barring anything outside of these two factors, the IRS is unlikely to consider your rational behind an undue hardship sufficient.
Bad Advice (IRM 220.127.116.11.3.4) and Errors by the IRS (IRM 18.104.22.168.4)
We will not go so far as to say that receiving bad advice is a slam-dunk for getting penalties mitigated, but bad advice, whether from the IRS or from a tax practitioner, is one of the most compelling reasons to abate tax penalties. Throwing someone else under the bus is a frequently used tactic by tax practitioners for abating penalties in other areas, such as in an audit. Reliance on an expert or from something that the IRS tells you is indicative of the ordinary care and prudence that the IRS is looking for when granting a tax penalty abatement.
Fire, Flood, or Casualty (IRM 22.214.171.124.3.5)
The IRS without question generally accepts any tardiness in filing or paying taxes due to a fire, flood, tornado, or other casualty. Particularly in areas where there is a state declared or federally declared disaster area, the IRS will usually mitigate tax penalties without question. However, like many of the other factors, the extent of the mitigation will depend on the circumstances and the reasonableness of the taxpayer’s request. The IRS will want any past due returns or payments made as soon as possible. If the taxpayer can demonstrate this, then they should be able to get penalties abated without question.
In conclusion, tax penalty abatements are generally achievable if based on one of these seven, or rather six circumstances. It is important when submitting any penalty mitigation request to organize and prepare your request well. Provide any substantiating documentation that you may have and pretend that you are making the argument in front of a judge, rather than an IRS representative. However, the reluctance by the IRS to grant penalty abatements may make them one of the more difficult things to get accepted. I want to encourage you to consult with a tax professional if you run into trouble and it may be more cost effective to retain a tax professional to help you, if there is a large amount in controversy.
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